Operator: Good day, ladies and gentlemen, and welcome to the Second Quarter 2010 Cardinal Health Earnings Conference Call. My name is Anne and I will be coordinator for today's call. (Operator Instructions). At this time, all participants are in listen-only mode. We will be facilitating a question-and-answer session following the presentation.
I would now like to turn the presentation over to Sally Curley, Senior Vice President of Investor Relations. Please proceed.
Sally J. Curley - SVP, IR: Thank you very much and welcome to Cardinal Health's second quarter fiscal 2010 conference call.
Today we will be making forward-looking statements. The matters addressed in these statements are subject to risks and uncertainties that could cause actual results to differ materially from those projected or implied. Please refer to our SEC filings and the forward looking statements slide at the beginning of our presentation, which can be found on the Investor page of our website for a description of those risks and uncertainties.
In addition, we will reference non-GAAP financial measures. Any information about non-GAAP financial measures is included at the end of the slide. A transcript of today's call also will be posted on our Investor page, at cardinalhealth.com.
Before I turn the call over to our Chairman and CEO, George Barrett, I'd like to remind you of a few upcoming investor conferences in which we will be participating, notably the UBS Global Healthcare Services Conference in New York on Monday, February 8, the Raymond James Annual Institutional Investors Conference in Orlando, Florida on Tuesday, March 9, and the Barclays Capital Global Healthcare Conference in Miami on Tuesday, March 23. The details of these events are or will be posted on our IR section of our website, at cardinalhealth.com. So please make sure to visit that often for updated information.
Finally, I would like to ask you to please limit your questions to one with one follow-up in order to allow for others to ask questions.
Now, I'd like to turn the call over to George Barrett. George?
George S. Barrett - Chairman and CEO: Thanks, Sally. Good morning, everyone, and thanks for joining us on our second quarter call. For those of you following along with the presentation materials, my comments today will largely connect with slides 4 through 6 and Jeff will cover the others in his remarks.
Let me start by saying that I am really pleased with our performance during the second quarter and throughout the first half of fiscal 2010. Our businesses across the enterprise are executing well against our key initiatives and our people continue to demonstrate their commitment to doing the things necessary to drive long-term and sustainable value for our customers and our shareholders.
As a Company, we reported a 3% increase in revenues for Q2 and a non-GAAP EPS number of $0.57, up 12% over the prior year period. Our overall operating performance was better than we originally expected with a number of our key initiatives already taking hold and with Q2 numbers receiving some benefit from external factors that were more pronounced than we had anticipated.
Our medical segment has had particularly strong year-over-year performance to-date, and our pharmaceuticals segment has continued its momentum, performing considerably better than we expected in the second quarter. Having said this, we all recognize that this is a marathon, not a sprint, and we have both opportunities and challenges in front of us. I do believe that we're clear about our course and we're making the progress I had hope to see.
Customer focus remains the order of the day. As you've heard me say before, we continue to work on further improving the customer experience and we are seeing these efforts show up in our customer loyalty scores with notable gains over the past four quarters in retail independent pharmacy and hospital supply.
Before I talk about each segment specifically, let me comment briefly on our overall results. Our results reflect strong performance in our base business, and that was driven by a number of things, including early positive results from our generic initiatives, solid performance under our branded manufacture agreements, expansion of our retail independent book of business, exceptional performance in nuclear despite ongoing supply shortages, continued strong performance in lab, ambulatory and Canada, more effective selling strategies across the enterprise and disciplined expense control. I should mention here that we did repeat some significant benefit from external factors, which I'll touch on in my segment discussion and that Jeff will cover in more detail during his remarks.
Now, let me comment on each segment separately starting with pharmaceutical. Our pharma segment continued its momentum in Q2. Sales increased by 3% versus prior year with segment profit down 1%. This decline was less than we expected. The segment profit decline was driven primarily by the impact of the Medicine Shoppe franchise model transition, the drop in generic launch value versus the prior year period and the effect of contract re-pricing. These items were partially offset by the benefits we are seeing from our generic sourcing and selling initiatives, some earlier than expected brand price increases and excellent expense management.
Our pharma segment's sales mix in the quarter was 49% to bulk customers and 51% to non-bulk customers. We saw an uptick in sales growth to non-bulk customers at 7% versus the prior year period and a decline of 1% in sales to bulk customers. Within our bulk customer group, we've renewed a multiyear contract with Express Scripts during the quarter to supply pharmaceuticals through mid 2012.
As you know, we have a large and very important business supplying national retail chains, and I am very pleased with the strength of those relationships. But I've also indicated our desire to grow our retail independent direct store business. This is an important group of customers for us and we've seen both sequential and year-over-year sales growth. Additionally, generic sales to retail independent pharmacies were up 10% in Q2 versus the prior period. By the way, our generic sales growth across all channels was also up 10%. And the generic penetration rate, or as we call it 'share of wallet,' continued to expand, reaching its highest level in 18 months.
We were also very pleased to announce earlier this month a new multiyear agreement with American Associated Pharmacies or AAP to remain the exclusive pharmaceutical distributor for its nearly 2,000 independent pharmacy members, which includes the networks of Associated Pharmacies and United Drugs.
On the generic sourcing side, we are tracking well on the implementation of our redesigned sourcing model under the source program, which we believe provides incremental value to our customers, to Cardinal Health and to our generic partners.
You may remember from our call last August that we expected a difficult year-over-year comparison on generics primarily due to fewer generic launches in our fiscal 2010 and generic price deflation on certain key products. Our current full year view is that we are running favorable to that projected impact. Jeff will cover this in more detail.
The restructuring of our Medicine Shoppe business model is ongoing. We did add new franchises to the network for the first time in a long time. However, the conversion rate of existing stores moving from the old models to the new model is still lower than I'd like it to be. Despite the headwind, as we transition some franchisees from a royalty-centric model to a deeper long-term partnership on the supply side, we continue to believe that this change is a right strategic move for our customers and for Cardinal Health.
Our nuclear business performed very well in Q2 under extremely difficult circumstances. While raw material supply shortages had an impact on overall volume, the team continued to take care of customers and delivered excellent bottom line growth. Our nuclear team is very focused on the fact that there is an individual patient awaiting a critical diagnostic test connected to every dose they prepare and they work very closely with our customers to manage the supply constraints by staging orders and adjusting patient schedules where possible. Jeff will be providing an update on the nuclear generator supply situation in his remarks. Also of note, we continued to build out our PET footprint and the integration of the Cyclotron assets we acquired in Q1 from Biotech Pharmacy and Cyclotron is almost complete.
Turning to Medical, this segment had an extremely strong quarter with revenue growth of 9% and segment profit growth of 38%. We continue to be excited about our unique capabilities in both category and channel management and the potential for our portfolio of brand, self manufactured and private label products. While we're delighted with the Q2 results, the rate of profit growth was unusually high, boosted by significantly lower commodity prices and some benefit from the demand for flu-related products. That said, the underlying businesses are performing well. We saw another quarter of double-digit revenue growth and profit growth in lab as this channel continued its strong track record of performance helped somewhat by sales of flu-related products.
Ambulatory continues to pursue ways to grow both its customer footprint and share of wallet and also saw another quarter of double-digit revenue growth. Additionally, our collaboration with Allscripts for electronic health record is progressing well with a strong lead pipeline and a number of deals closed to-date. Canada had another exceptional quarter, posting both revenue and profit growth well in excess of 20%. New products and supplier agreements with some upside from foreign exchange and the demand for flu-related products fuelled this outstanding growth.
We are also making solid progress in our kitting business with the third consecutive quarter of profit growth and strong profit growth versus prior year. We've devoted considerable energy to improving its operational performance through a number of Lean Six Sigma projects. In the quarter, we also signed a five year exclusive distribution agreement to co-market the SurgiCount Safety-Sponge System. This system utilizes data matrix-bar codes to tag each item with an unique serial number to help prevent the retention of sponges and towels unintentionally left in patients during surgical procedures.
Sales in hospital supply were slightly positive and in line with our expectations. Margin improvement is a particular focus for this business. We continue to build out our preferred product category to brand, sub-manufacturer and private label products. This is an important strategic initiative and driver of margin improvement going forward.
To further improve our hospital penetration and support our customers, we've established a dedicated nursing sales organization, focused on products used in the nursing profession and are beginning to see traction here. And we're also on track to achieve the savings we targeted in our medical sourcing initiatives.
Our work on our medical business transformation continues to meet our timeline and budget expectations and our Q2 investment spending was in line with our forecast. We are quickly moving from the design stage to build stage of this project. This transformation forms the underpinning of our efforts to further reduce supply chain costs, while driving substantial improvements in our customer and supplier experiences, and we have some of our best and brightest assigned to this important work.
At an enterprise level, as I mentioned last quarter, expense and capital management remain key areas of focus. We are also managing our balance sheet carefully with a strong emphasis on reducing inventory days, particularly in our pharmaceutical distribution business, and we've been able to do this while maintaining high service levels. Jeff will cover the balance sheet in greater details in a moment.
Based on our performance in the first half of fiscal 2010 and our best assessment of the current environment, our view of the year has improved considerably. As a result, we increased our full year guidance and now expect our non-GAAP earnings to be in the range of $2.08 to $2.18. Jeff will walk you through our core assumptions underlying this.
Before I turn the call over to him, I would like to mention a few more things. First, our Board of Directors recently added another two directors, Dr. James Mongan and Carrie Cox, bringing the Board to 12 members. Jim is a well known hospital CEO, most recently leading Partners HealthCare System until his retirement last month and a visionary leader and educator. Carrie brings a wealth of experience from her 30 years in biopharmaceuticals and healthcare, most recently serving as President of Global Pharmaceuticals at Schering-Plough. We've built an exceptional Board and the additions we've made over the past six months bring additional expertise and perspectives from across many dimensions of healthcare, including pharma, biotech, generics and healthcare providers. And I look forward to working closely with the entire Board as we continue to move the Company forward.
Second, on the topic of healthcare reform, it's has been an extraordinary couple of months and an eventful last few weeks. I will say that the fundamental challenges that our healthcare system faces are no different today than they were last quarter. We have a system capable of delivering superb medical care, but we also have tens of millions of people in this country who are unable to access affordable healthcare. Whether the system evolves by market base forces or through the legislative process, we do believe that this issue will need to be tackled and we will continue to be deeply engaged in Washington as things move forward.
Third, I did want to comment briefly on the situation in Haiti. Like all of you, we've observed the aftermath of the massive earthquake in Haiti with horror. We prefer not to say too much about our support, but I do want to remind our shareholders that we take a responsibility as a healthcare company seriously and we have acted immediately and directly with relief organizations, the Department of Defense and their partners to do our part to help address critical needs. I am proud that the people of Cardinal Health once again responded instantly and in meaningful ways, and I would like to take this opportunity to acknowledge their tireless efforts.
And finally, let me end by saying that I feel good about our progress and what we've accomplished to this point. Our organization is fully aligned around our strategic priorities with a strong focus on execution and improving the customer experience. And while the results are beginning to show, we know not to get too far ahead of ourselves as there's still much to do.
With that, I'll hand the call over to Jeff for more details on the quarter.
Jeff Henderson - CFO: Good morning, everyone, and thanks for joining us. Let me begin by echoing George's comments. I am very pleased and encouraged by our results in the second quarter and the first half of our fiscal year. George provided a good overview over Q2 result and key drivers. So rather than rehash all the financials, I'm going to focus my presentation this morning on providing some additional details related to Q2 and then spend some time going through our outlook for the remainder of the year.
First, some added comments on the business performance. As you may recall, at the beginning of the year we identified a couple of key performance metrics that we needed to focus our attention on in a laser-like fashion; margin expansion and working capital. Due to a number of the performance initiatives that George has already referenced, including our generic programs, focusing on retail independent growth and penetration, strong performance in nuclear medical businesses, expense controls and working capital efficiency, we've made some great progress, which I'd like to elaborate on.
First, on margins, I'll be the first to say that one or two quarters worth of margin trends doesn't necessarily tell a complete story, particularly given the quarterly volatility we can often see based on external factors. However, margin trends and their key drivers remain an extremely closely monitored metric for us. So I believe it's important to comment on our status here at this midpoint in our year. Both sequentially and year-on-year we have seen gross margin rate and operating margin rate expansion as an overall Company. In fact, consolidated gross margin and operating margin rates are up 5 and 4 basis points respectively versus last year. This is in spite of the fact that our very large pharma bulk business, which represents close to 50% of the pharma segment revenue, has experienced declining margins due to large customer re-pricings.
Some of the biggest profit margin gains are being seen in our medical, nuclear and pharma retail independent lines of businesses, all of which have been key areas of focus. Medical segment profit is up almost 100 basis points to 4.95%, driven by both strong performance in a number of our channels and by external factors, such as raw material costs and the strong flu season. Within the pharma retail independent customer channel segment profit margins are up 37 basis points versus last year, a very direct consequence of our focus on continuing to build important business and increased generic penetration.
Turning to working capital, we've continued to see the focus in this area pay dividends. Although sequentially days of inventory were up in Q2 due to the normal seasonal build at calendar year-end, the year-on-year comparison show the reduction of another day due to the efforts of our pharma distribution operating team and its Lean Six Sigma programs. At the same time, our accounts receivables days have reduced slightly. These combined with our earnings performance helped to generate $524 million of operating cash flow in Q2, bringing our year-to-date number to $931 million. In summary, we are making some real progress with our performance initiatives and it's showing in the key metrics we track.
Now, to continue on Q2, let me add a couple of additional details to what George covered. I'll start with the business segments. As George said, we are pleased with the business and financial progress in our pharma segment, which was better than we anticipated. Revenue in the segment was up 3%, comprised of 7% growth for non-bulk and a 1% decline for bulk customers. The decline in bulk was driven by both timing of orders versus last year, and the impact of a loss of a large mail order customer that we have referenced in previous communications.
From a segment profit perspective, we are meaningfully benefited by the progress in our generic initiatives, which helped to offset a portion of the headwind we experienced from the decline in value of generic launches versus last year. We also had a strong quarter from a branded buy margin standpoint, as brand inflation and fees contributed materially to growth, offsetting much of the negative impact on the Medicine Shoppe transition. So, margin erosion was largely as we originally modeled, driven by some previous large contract re-pricings, with some of the impact being later than originally anticipated. This last factor benefited the first half of the year, including Q2. Finally, due to strong expense controls, SG&A in this segment was down over 4% year-on-year.
In the medical segment, in addition to strong business performance, our Q2 benefited from certain external factors, including commodity price changes, which were worth close to $19 million of benefit in material costs versus last year and a continued strong flu season, which was worth about $6 million incrementally. These benefits largely offset the increase in segment expense during the quarter, which was driven by our significant transformational project spend. Regarding the flu season, I will say we are starting to see that impact moderate considerably as we go through January.
Finally, at the overall corporate level, let me cover a few items. Non-GAAP operating expense is up over 3% from last year, driven by our considerable investment spend, incentive compensation accruals and the impact of acquisitions. If you exclude those drivers, which represent about 6 percentage points of growth, our core SG&A is down meaningfully, reflecting the continued focus we have in this area.
In our other income section of the income statement, you may note that we reported $6 million of non-GAAP other income, a fairly large improvement compared to last year's expense of almost $20 million. This favorable compare is somewhat unique to this quarter and is primarily due to the impact of deferred compensation and foreign exchange swaps in last year's Q2. Both these items were decidedly negative in FY '09 due to the extraordinary financial market events that transpired that quarter.
Our non-GAAP tax rate for the quarter was 38.5% versus 38% flat last year. The higher rate in the current quarter was attributable to changes in income mix and a couple of small discrete items. Also during the quarter, the repurchase of approximately $50 million of Cardinal Health shares under our current $500 million share authorization program, leaving average diluted shares outstanding for the quarter at $361 million. On the balance sheet, we finished the quarter with over $1.7 billion of cash, approximately $400 million of which is overseas. Also, we had a $350 million note come due during October, which leaves us with a long-term debt balance of $2.1 billion.
Now, let me turn you to slide 7 and take a moment to walk you through the items that accounted for the difference in our GAAP and non-GAAP EPS numbers. We had several items this quarter that caused our GAAP earnings to be higher than our non-GAAP. All these figures that I'll review are on an after-tax basis. The biggest item in this category is a $20 million gain from sales of 5.5 million shares of CareFusion stock. I'll expand on this item in more detail shortly.
We also had $60 million of income from an insurance recovery that was a result of an escrow release from a previously settled lawsuit. Restructuring and employee severance, along with other spin-off-related costs made up approximately $12 million and partially offset the two gains I just mentioned. The total positive impact to GAAP EPS in these items was $0.07 for the quarter, taking our GAAP EPS from continuing operations up from $0.57 to $0.64.
Now, turning to slide 8 and more detail our CareFusion stake. As mentioned earlier, during Q2 we sold 5.5 million shares that generated $135 million in proceeds and a gain of $20 million. We've accrued no tax on the proceeds of this sale. After these share sales, we now hold 35.9 million in shares of CareFusion stock, which had a value of $897 million at December 31. During Q2, we had a pre-tax unrealized gain in this remaining ownership of $115 million, which does not have an earnings impact until the share is actually sold and capital gains or losses are recognized.
As we've said in the past, in order to maintain the tax free nature of the spin-off, we need to divest the remaining shares within five years from the spin-off date. We intend to complete this within the next 18 months and are continuing to assess the best method and timing to do this based on market conditions and other factors.
Now, let's review our FY '10 outlook. Before I turn to slides 10 to 13, let me begin with some framing comments about how we now view the full year from a forecast perspective, particularly given our strong financial performance in the first half of the year. Clearly, we're off to a good start in the first half, much stronger than we anticipated heading into the year. This is being driven by two major categories of items.
First, we've had very good execution against our key initiatives in the first half of the year, including our generic programs, our progress in retail independents and strong performance in our medical businesses. I would fully expect that we continue that operational momentum into the second half. We've also had benefit from some certain external factors, including generic launches that are happening at a higher value level than we had planned, less deflation on our few specific generic products, compensation from our branded vendors relative to price increase and fee timing and the demand created from a stronger and early flu season. For the full year, although we'll get some net benefit from those factors, we are assuming that they largely normalize out in the second half of the year.
So, in total, the sum of these items is a considerable improvement in our view for the full year, which is reflected in our guidance being raised. However, we are also seeing a change in our distribution of earnings for the year, with the first half being disproportionately benefited from some of the external factors I just outlined.
With that overall backdrop, let me provide you some more specific assumptions by segment. Our pharmaceutical segment assumptions are shown on slide 10. The market factors and headwinds for the year are the same ones that we've spoken about previously, although, as I indicated, the amount and timing of the realization may have shifted somewhat.
First, as I mentioned, earlier than anticipated branded buy margin we realized in the first half represents what we believe to be a pull forward of $0.04 to $0.05 into the first half of our fiscal year from our second half. The negative year-on-year impact of generic launches and deflation was better in the first half than we anticipated, again, due to several unplanned launches and a slower deflation on a couple of products launched last year. We now expect the full year negative impact of this headwind to be approximately $75 million. This compares to the $100 million figure we spoke of on our August 2009 call. The financial impact of our Medicine Shoppe transition is happening generally in line with our expectations.
Finally, let me comment on the nuclear generator supply situation as we see it. With the shutdown of the Chalk River reactor in Canada, technetium supply levels remain challenging and can range anywhere from 20% to 80% of normal supply levels. Based on recent reports from Atomic Energy of Canada, we expect that their reactor will not be fully operational until April. At the same time, the reactor in the Netherlands is scheduled for maintenance beginning mid February and is expected to be down for approximately 180 days. We have aggressive action plans underway to mitigate its impact for our customers and their patients as much as possible. However, there will likely be some impact of this disruption and our updated guidance reflects an unfavorable EPS impact of $0.01 to $0.02 in the second half.
Our medical segment assumptions on slide 11 are largely unchanged from August 2009 when we first presented them. First half actual results show segment revenue growth to be above the overall market, driven by our mix shifts and strong growth in Canada, ambulatory and lab. We expect this to continue for the full year. However, as you recall in Q1, we also benefited from accelerated revenue and income recognition related to the CareFusion spin. Obviously, that one-time benefit doesn't repeat itself.
Also in the first half of 2010, we saw greater benefit from commodity raw material prices and flu-related sales at a greater level than we had originally projected. These are expected to continue at the same rate into Q3. In fact, given oil price movements over the past six to nine months, second half year-over-year benefit from commodity prices will be significantly less than we realized in the first half of the year.
A final important word on the earnings outlook for the medical segments during Q3. As you've seen, this segment has reported robust growth for the first half of the year and is expected to finish the year with strong full year results. However, Q3 will be an anomaly in this regard, as we are actually expecting a segment profit decline during this quarter despite underlying improving fundamentals. This is driven by a particularly strong Q3 we reported last year related to some one-time customer rebates and other items, which improved our cost of goods sold, making for a tough year-on-year compare. This is exacerbated by continued high investment spend in this year's Q3 and a lessened benefit from commodity prices that I previously mentioned. With that all said, we do expect the medical segment to grow its Q3 earnings sequentially from Q2.
We've updated our corporate assumptions for fiscal 2010 on slide 12. Note that we now expect to end the year with a non-GAAP tax rate north of 37%, although we should point out that there could be few isolated events each quarter that may affect it in either direction. We expect weighted average shares outstanding to come in around $361 million. We now expect the combination of net interest expense and other to be approximately $110 million. We continue to forecast our capital expenditures to be in a range of $200 million to $250 million.
Finally, although we don't generally give regular guidance on cash flow, I did want to update my answer to a question from earlier in the year where I indicated that FY '10 operating cash flow would be less than $1 billion. Given the favorability in our cash flow during the first half of our fiscal year, we now anticipate that number to be north of $1 billion. So, taking all these items into account, as George referenced earlier, we are changing our expected non-GAAP earnings per share to be in the range of $2.08 to $2.18.
I know that was a lot of detail. Hopefully, it was helpful. I'll turn the call over to George now for Q&A.
George S. Barrett - Chairman and CEO: Operator, I think we'll leave it to you now to start the Q&A.
Operator: Charles Boorady, Citi.
Charles Boorady - Citi: Lot to ask about, I'll keep it to one. I am wondering if you could elaborate on comments you made on the Medicine Shoppe turnaround. Jeff mentioned it's going in line with expectations and if you can quantify a little bit for us how the existing stores are doing and any investments you are making to try to grow the franchise? So, for the existing stores, maybe same-store sales trends, the retention rate of franchisees or other stats you can share. And then, are we starting to see any growth in the franchise yet and are you making any investments? Are we seeing any expenses in your G&A line related to that?
George S. Barrett - Chairman and CEO: I'll start, and certainly, Jeff, you can chime in here. I'm not going to be able to provide a lot of that detail, Charles. I'll give you a general sense of what we see. As Jeff mentioned, economically we're about where we expected to be. It's actually coming out a little bit differently in terms of how we get there. And largely what we've seen, and its good news for us, is an increase in stores that would like to be franchisees, so we're seeing some increase there. That's good news for us. Our existing stores are doing pretty well. Where we've seen some underperformance, let's say, would be the number of stores converting underperformance there, meaning we'd like to see more stores convert. It's a very personal decision for the franchisees. And I'd probably add that each of these franchisees is in a different situation, and so we really worked at engaging them in a dialogue in terms of explaining what the opportunities are. So, at this point, there are some that have chosen not to convert or are taking more time to consider that option. Generally, I would say the program is going well. As I said, we've added some franchises, but the number of converting is a little bit lower than we modeled. Beyond that, there is probably not a lot I can add.
Charles Boorady - Citi: Is there a chance or should we expect more revisions to the fee or other aspects of the relationship?
George S. Barrett - Chairman and CEO: No, I don't think I would expect anything different along that line.
Operator: Charles Rhyee, Oppenheimer.
Charles Rhyee - Oppenheimer: George and Jeff, you talked about all the factors benefiting here in the quarter, and obviously some external, some internal. Can you maybe give us a sense, obviously, the performance in this quarter, which probably benefited more as – particularly I'm interested on the generic sourcing side? George, you talked about changing the relationship on how you deal with your generic manufacturers. Is the takeaway here that this part of your business you are moving further along at a faster pace in establishing this new type of model or is it just more that we had better generic introductions maybe last quarter?
George S. Barrett - Chairman and CEO: We tend to talk about the generic in its pieces, sourcing and selling. The truth is that you have to think about it in an integrated whole and it's one of the things that we're actually doing much better. So, on a sourcing model change, we have made tremendous progress. You've heard me say that our goal is to move this from a somewhat transactional approach to a much more strategic approach. We've done that. That transition is going well and actually quite quickly. We're pleased with the way that's working. I want to clarify one thing that's very important because some folks have asked us about this. We have substantially reduced the number of generic suppliers in our source program. That is our preferred program. But I should also add that we continue to do business with all generic suppliers across the generic spectrum. So, what we've done is really reduce the number of players in that particular program. So number one, I had to clarify that. The second part is that having a great sourcing program is not effective unless you are selling in the right way. And so, we've tried to make sure that we're integrating our selling and our sourcing model in a way that we think is valuable, and I think we're making terrific progress here. Our compliance is going up. The trend line is going in the right direction. Our generic program is attractive, it's flexible, and our selling organization is better trained and better incentivized to drive the sales and to articulate the benefits of the program. So, I would say, all told, taken in its entirety, our generic effort is better from sourcing to selling, and I think that's a component of our progress here.
Jeff Henderson - CFO: Let me just build on that, Charles, by providing a few more details. As George said, this is really part of an integrated package that we have to get right from sourcing all the way through to the end customer. But that all said, let me break it down into its three major components and just give you some directional idea of how we did in Q2, and most of these we've already referenced. First of all, on the sourcing side, I think we've made great strides in that partnership and I would say we're slightly ahead of schedule in that regard. And probably Q2 was the first quarter that we started to see some meaningful financial benefit from that revised sourcing philosophy. On the sales side, we experienced 10% generics growth during Q2, including 10% growth specifically within our retail independent channel, and we also saw continued progress in penetration within our retail independent channel, which also bodes well for generic sales, both in Q2 and the future. On the third element, launches, we did experience some launches in Q2 that we hadn't necessarily forecast and that provided us some unexpected benefit. I would also say that some of the deflation we had predicted based on some of last year's launches was not as steep as we might have feared, which gave us some benefit. And that was a reason why I said the total headwind this year from the combination of generic launch compare and deflation had improved from what was previously about $100 million to about $75 million. The last thing I will say about launches is that it's not just about the launches occurring; it's about how well we can execute on them. And we've done a much better job of executing on the launches and getting the products to market very quickly, which is, obviously, a very important thing for both our pharmacy customers but also our suppliers as well. So, again, we're seeing some great progress in all of them there.
Operator: Tom Gallucci, Lazard Capital.
Thomas Gallucci - Lazard Capital: Good morning and thanks for all the color on some of those one-time type items, Jeff. On the generics, again, just a follow-up there, I think you had talked about maybe a goal of improving purchasing compliance in the customer base by at least 10% this year. Any update on where that stands? And do you see any potential to break into maybe some of your midsized customers where you haven't done generics before?
George S. Barrett - Chairman and CEO: As it relates to our goal, I would say we're squarely on track to meet our goal. The trend line is very good and I'm encouraged by what I'm seeing there. Yeah, look, I think it's a dynamic environment. We have already in many cases refined the programs that we have with different customers. We believe that there are still customers out there who could benefit from the flexibility and the value that we create through our generic programs. So we'll continue to try to make that offering across our channels. Of course, we talked about independents here, but it's also among regional chains, mass merchants. Even in the GPO and hospital segment, as you know, we've made some progress. So, I think there are opportunities for us to expand that program, and I would say, generally, I'm feeling good about the rate of progress that we've had in our effort.
Thomas Gallucci - Lazard Capital: Just on the follow-up, cash flows are good, it seems like you've got the house in order and the strategic programs are gaining traction. Any thoughts on cash flow deployment and the potential for acquisitions over time?
George S. Barrett - Chairman and CEO: Let me just make a very quick general comment about acquisitions, and then maybe ask Jeff to talk a little bit about capital deployment. As you know, we've really focused in this past year on strengthening our core businesses and great progress has been made there. So, as we look to the future, we'll continue to drive organic growth to take advantage of the tools that we have, but we'll continue to evaluate the most effective way to position our business and drive value for our shareholders. So we'll certainly carefully consider acquisitions have to be part of that equation, but it's really about strategic positioning and it's about long-term value for our shareholders, and we'll ill evaluate that as we go. But maybe in a more general sense, Jeff will comment a little bit about on capital deployment.
Jeff Henderson - CFO: First off, I think as you would expect, our first priority, we were evaluating both capital structure and capital deployment is ensuring that we have sufficient liquidity to operate the business comfortably and that we maintain our investment grade rating, which is very important to us. I would say, second, we do have certain commitments related to both capital expenditures and our considerable dividend payout, and we obviously have about over $500 million of cash reserved for those two important items this year. So, beyond that, we have to assess carefully what our strategic options could be and those can range from looking at acquisitions from time-to-time to our share repurchase and those are clearly tools in the portfolio that we'll consider as we continue to build up cash.
Operator: Lisa Gill, JPMorgan.
Lisa Gill - JPMorgan: I actually have a question on the medical supply distribution business. The revenue came in substantially better than what we were looking for. Can you maybe just talk about what the competitive landscape looks like right now in the marketplace, are you taking a lot of market share from some of the competitors? And then, secondly, just as a clarification, Jeff, when you talked about $6 million coming from flu, I assume that that's on the operating profit side. Is that correct?
Jeff Henderson - CFO: Yes, Lisa, that's correct. It's operating profit.
Lisa Gill - JPMorgan: And so, can you break down for us how much came on the revenue side? Was that a big contribution to the quarter for medical or was it competitive wins in the marketplace? Are you taking market share on your existing customers, maybe if you could just give us some idea as to --
George S. Barrett - Chairman and CEO: Lisa, let me jump in just for second and try to give you some color on how we see the marketplace right now. We're very pleased with the growth there. The heaviest growth for us came really in our ambulatory business which is a business outside of the acute care centers, in our lab channel and really terrific growth in Canada. We were about in line with expectations on traditional hospital supply business. As it relates to market share, I'm not sure there's been large swings in market share one way or the other, I think, relatively steady, let's, say on the medsurg side, probably a little bit of expansion in ambulatory and lab in Canada. But generally speaking, it feels like a good progress out there. As you know, the market is always competitive as it is in our other businesses. But we feel pretty good about our positioning and continue to mobilize around what we think are really our core competitive advantages, which have to do with the breadth of our channel and the ability to manage categories across huge product lines. So, feeling pretty good about that.
Lisa Gill - JPMorgan: Just one quick follow-up, George, on the ambulatory care side. Do you feel like you need to make an acquisition? I know that you are growing that business organically, and obviously you are saying it's growing quickly, but would an acquisition help you to really gain the market share you need in that area?
George S. Barrett - Chairman and CEO: Lisa, I wouldn't comment on whether or not an acquisition is necessary. I would say this we are getting very good organic growth, we are doing some things in terms of redeploying sales organizations to enable that, and I think continuing to build capabilities that include not only broader offerings but customer facing things that we're investing in. So, we're pleased about the rate of growth organically. Of course, we'll continue to consider as we do with any of our businesses, whether or not some kind of external move repositions us or alters our positioning or our future in a meaningful way. So we'll continue to look at those things. But right now, I would say feeling pretty good about the progress we're making there.
Operator: Randall Stanicky, Goldman Sachs.
Randall Stanicky - Goldman Sachs: Just two questions, first a follow-up on the generic sourcing. George, what quarter or what timeframe should we think about as when you will see the full benefit from that initiative? And then the follow-up would just be on some of your customer renewals. You recently renewed Express, you have a couple more midyear, how do we think about timing and if you have any comments on renewal economics that would be helpful?
George S. Barrett - Chairman and CEO: Let me start on the sourcing side. Randall, it's a little bit difficult to describe this as a discrete moment in time. This is essentially a change not only in some suppliers, but it's a change in the philosophy of the way that we source products. So it's really from that that creates value over the long term. I will say this, it is already creating value for us and it's already, I would say, strengthening our relationships on the upstream side with our supplier. So, we are pretty far down the path in terms of executing and implementing the program. One of the things that we have to do, of course, is when there were changes in supplier in the program, we want to do that gradually and make sure that there is a smooth transition for our customers downstream. So it's reeling out throughout the course of the year. But I would say this, it's already generating benefit. You shouldn't expect a single moment where suddenly it goes from black to white or white to black. I think it's a progressive effort, but it is really the right course for us and I think we're well on track and probably ahead of track on what we expect on that. As it relates to renewals, yes, we did announce two in effect in the last couple of weeks. Our basic approach to modeling our renewals is – as we see renewal, unless we have information to the contrary, our operating assumption and built into our model is the assumption that we renew contracts. That's the way we approach it unless we have information to the contrary.
Operator: John Kreger, William Blair.
John Kreger - William Blair: My question relates to your mix within the pharma distribution business. This is the first time that I think direct has outgrown bulk in a long time. Do you think that's sustainable and can you remind us the margin differential between those two categories?
George S. Barrett - Chairman and CEO: Let me talk to the first one, and then maybe Jeff will jump in. It is a noteworthy data point. I'm not sure that this single data point represents a trend. So I would be very cautious to advise you that this necessarily marks a turning point for us. I think it's a piece of data. It's interesting and relevant to our business. But again, this can move from time to time. And so, I don't want to make too much of this particular piece of data.
Jeff Henderson - CFO: John, just to answer your question about the relative margin, we'll be putting those into our 10-Q that will be filed next week. So let me just give you a preview of what those look like. The bulk segment profit margin percent that we'll be reporting will be 22 basis points for Q2 and the non-bulk segment profit margin will be 169. Just to comment a little further on the bulk margin, that 22 compares to, as you may recall, an abnormally low rate of low single digits in the first quarter of FY '10. However, as I indicated at the time on our last earnings call, that bulk rate in Q1 was abnormally distorted on the low end by a couple of certain events, including a state excise tax payment that we had to accrue for and the pattern of certain branded purchases. So, I think at the time that probably decreased the bulk rate by about 15 basis points versus what I would consider a more normalized margin. So you can see the 22 basis points that we're reporting this quarter probably is more in line with that normalized rate that I had referenced before.
Operator: Richard Close, Jeffries.
Richard Close - Jeffries: Jeff, just really quick, wanted you to clarify one of the points with respect to the generics when you were giving your commentary. You said something about $0.04 to $0.05 pull forward into the first half of the year. Can you just go over that again?
Jeff Henderson - CFO: Yes. First of all, I just realized I had given an incorrect number for the non-bulk segment profit margin. It's actually 202 for the pharma segment for non-bulk, and again that's 22 for the bulk segment profit margin. Regarding the pull forward, yeah, I think it was a combination of both price inflation and some fees that got pulled forward into the first half of the year and I quantified that as about $0.04 to $0.05, which we really view as a timing shift. In particular, there were certain price increases in the first half of the year from branded vendors that we had assumed in our own forecast would happen in the second half of the year. They were about in line with the size that we expected them to be, but they came a little bit early. So that's one of the key drivers of that $0.04 to $0.05 of pull forward that I referenced.
George S. Barrett - Chairman and CEO: And Richard, I think you had said generics, and I think it really is brand and that's what Jeff is responding to.
Richard Close - Jeffries: And then, with respect to the contract re-pricings, did you make any comment in terms of what you thought the impact was in the first half of the year versus your initial expectations?
George S. Barrett - Chairman and CEO: I'm not sure I fully get your question. Let me just give an answer I think answers your question. During the course of any year we have contracts coming up, some of which are very large and maybe in the public domain, ones that people see and ones that are very small. And we typically model them in, and so those are built on our forecast. The guidance that we provided you today reflects all of our thinking about any ongoing contracts that we have and contracts that we've signed. So, what Jeff mentioned earlier during his comments is that we did have some contract renewals that were implemented at a slightly different timing than we expected in Q1, but otherwise things are playing out from that standpoint as we – not Q1, in H1 – things are playing out as we'd expected and the modeling we've got for the balance of the year reflects our thinking about renewals.
Operator: Larry Marsh, Barclays Capital.
Larry Marsh - Barclays Capital: Another very encouraging update here. I have a question and a clarification, if I could. First, just to elaborate here on the second half guidance, George, based on your much better performance to-date as you and Jeff had talked about, it looks like you are suggesting at the midpoint second half EPS down about $0.25 versus the second half last year after being up $0.12, $0.13 year-over-year in the first half. So, I know you've gone through some of the pull forwards, the nuclear headwind, flu, but I'm still getting drug down about 15% to 20% in the second half year-over-year to get there. So that to me seems a little draconian. What else am I missing or under estimating?
George S. Barrett - Chairman and CEO: Let me first answer generally, and then I'll ask Jeff to walk you through a little bit of the detail. Let's start by saying the important part. The underlying fundamentals of business, all the things that we think are important in terms of driving the progress that we want to see, all those things are going well. And so, largely what we've been talking about is the shifting of some external factors, primarily accounting for any differences. But let me see if Jeff wants to add anything to that.
Jeff Henderson - CFO: Sure. You reference a few of them, the pull ahead of buy margin into Q1, the nuclear issue we are facing with respect to the supply situation, we continue to have a negative compare with respect to generic new item launches and from the MSI transition. So all the headwinds that we had described earlier are still there, and like I said, the buy margin one is a bit of a timing issue. The other one that I would add is the DSA transition that we spoke about at the beginning of the year hits us in H2, it doesn't hit us in H1, because second half of the year is typically when we would realize the most from brand and price inflation, and given the conversion to a fee-for-service arrangement, we take a direct hit in that compare in the second half of the year. The last thing I would say is that the year-on-year commodity price compare within the medical segment that was a very favorable compare in the first half of the year. That compare is much less favorable – although still positive, it's much less favorable in the second half of the year, and that's typically due to the movement of oil prices and related commodities over the last six to nine months. One other thing I'd mention, Larry, is that some of our investment spend has been pushed more into the second half of the year compared to the first half.
Larry Marsh - Barclays Capital: And just a clarification or two. So, first one, since you mentioned oil prices, it strikes me as a little surprising to see that significant. I think you said $19 million benefit. Was that just the comp versus last year at the same time is how you are thinking of it?
Jeff Henderson - CFO: Yeah, it is. And again, it's always a little bit hard to follow up because delays lagged by about six to nine months. You may recall it wasn't too long ago that we were seeing oil prices in the $120 a barrel range, and that hit us last year. And then, as we lapped that period this year, we are benefiting from oil prices that were down in the $60 range. Now, since that point, we've seen prices get closer to the $90 a barrel range. So, that's why you see those fluctuations, but the $19 million is a quarterly year-on-year compare.
George S. Barrett - Chairman and CEO: I do want to wrap up this one because it's an important question, Larry, just to remind you that I think the general performance of the business for our second half is probably better than what I would have expected one year ago. We're actually going in the right direction across all of the components of our business. So, we'll deal with some of these external issues as they happen. We'll take them as the pitches are thrown at us. But the general picture for us is, I think, on the right trend line.
Larry Marsh - Barclays Capital: And just a final clarification, it looks like your cost basis on the CareFusion sale is closer to $21. Is that right? Is that a little bit higher than you had thought last quarter, Jeff?
Jeff Henderson - CFO: It depends on whether you are referring to an accounting cost basis or the tax basis. But the accounting cost basis is around $20.85. That was what it was at the time of the spin. And then, each quarter, based on the prevailing market price, we mark that up on the balance sheet based on where their stock is trading, and that's where the unrecognized gain has come from. If your question is about tax basis, as you may recall, in the last earnings call I mentioned that we had a lot of analysis to do to come up with a final tax basis. Actually a pretty complex calculation requires valuations, et cetera, to be done. At that point, I said a minimum was in the $19 to $20 range. Based on the analysis we've done to-date and we're still wrapping it up this quarter, I would say at a minimum that tax basis now looks like it is $22 a share, which is obviously favorable because that will reduce any capital gain that we'll realize.
Larry Marsh - Barclays Capital: So you probably wouldn't have to pay taxes, best you could tell on those gains given the other offsets you have?
Jeff Henderson - CFO: To the extent we saw above 22, we'll recognize a capital gain. But we do have some capital loss carry-forwards which exceed $100 million that will be used to apply against at least the first $100 million of gains.
Operator: Ricky Goldwasser, Morgan Stanley.
Ricky Goldwasser - Morgan Stanley: Just to follow-up on Larry's question, for the second half of the year, we are calculating about $0.09 of headwind in the second half versus first half. So, is it fair to say that about half of the improvement in your guidance is related to turnaround-related metric? And then, are you looking for distribution margin in the third quarter to sequentially improve versus the second quarter?
Jeff Henderson - CFO: Ricky, I'll answer your first question. I didn't quite hear your second question, so I might ask you to repeat it. But let me start by saying in the first half of the year, our over-performance versus what we expected I would divide into about 75% being external factors and 25% being over-performance in terms of performance against our initiatives, et cetera. That over-performance that we saw in the first half of the year we expect to carry through to the second half of the year. The external factors over-performance, as I said earlier, we expect that largely to normalize out in the second half of the year. So we don't expect to recognize anywhere near that level in the second half of the year.
Ricky Goldwasser - Morgan Stanley: And then, the next question was on the distribution margin. Should we still assume margin for the distribution segment up on a sequential basis?
Jeff Henderson - CFO: Typically, you'll see that our pharma segment will have its highest margins in the third quarter of the year. That's been a historical pattern that's applied for many years, in part because Q3 is generally where we realize the most price inflation. And we would expect that pattern to continue this year as we go to Q2 to Q3. The one thing I'll say, which is a bit of a caveat to that comment, is as we continue to move more and more of our branded business to fee-for-service versus the old buy and hold price inflation model, that Q2 to Q3 seasonal increase that we typically have experienced will continue to get more muted. And particularly given the very large vendor that we're moving to fee-for-service that you are all aware of, we'll see even more muting of that impact this year. But I'll go back to what I initially said that we would expect sequential margin improvement in the pharma segment Q2 to Q3 this year as well.
Operator: Steven Valiquette, UBS.
Steven Valiquette - UBS: You actually just answered my question, but I was trying to figure out as well with the 'largest' branded manufacturer going to fee-for-service, how much of that historically was still accounting for the big sequential improvement? So if that goes away that sounds, like that's a lot of what was happening there. So you just covered it.
Operator: Blake Goodner, Bridger Capital.
Blake Goodner - Bridger Capital: Two quick questions. The first is when I look at the growth of the distribution business, bulk being down 1% and non-bulk being up 7%, you mentioned something about timing and then a customer loss. Just how does that trajectory change throughout the next year because obviously that has a swing on the margins?
George S. Barrett - Chairman and CEO: As I said earlier, I'm not sure that we could necessarily take from those pieces of data a trend. We are always influenced by comps and unusual events. And the bulk business, as you know, can move in large pieces. So, for example, last year we had some business that went from DSD to bulk. So, I don't know if I can offer you a trend projection here. Part of this will depend on actually what happens with those customers, which we do not control, their own growth rate. So what we can control is how we're doing to improve the parts of the business that we influence and our programs are directed at doing that.
Blake Goodner - Bridger Capital: And then the second question, George, just taking a step back, you guys are ahead of plan or maybe ahead of where you thought you might be just in some of the sourcing changes, and it seems like you're doing a good job on the generic front. But can you just talk just a little bit about your vision for medical supply? That seems to get lost often in there, just given where you came from and the focus on generics. But on the medical supply side and just over the next couple of years, can you just talk for a sec about bringing some of the dynamics to bear in that market that you see maybe perhaps changing the way you sell and do business there similar to the way you are trying to change the way Cardinal sells on the distribution side?
George S. Barrett - Chairman and CEO: Glad to do that, Blake. The medical segment in one we're excited about. It is a very interesting collection of businesses and assets. Largely as we see the differentiated features, we have an unusual footprint across channels and very strong in acute care, growing in ambulatory, very present in labs. And so, as this system evolves and we have this confluence of some of the channels and movement across channels, we really like the way we are positioned in that business. We also have access to what I would describe as a vertical capability, tremendous capability for product management and category management. We're able to source and in some cases produce our own products through a global manufacturing and sourcing infrastructure. And so, this combination of category/product and channel we think is a very powerful tool. So the customer base is under all kinds of challenges and pressures, and we believe that we've got the tools that help them improve their cost effectiveness. And so, we're really excited about where it is. We think we've got the leadership throughout that business to drive us. We think that the market has needs and that we've got tools that help address those needs. We're really very excited about it, we're encouraged about its progress and we think there is a lot of potential in our medical businesses. So, again, you'll hear more from us continuously on this and the evolving strategy. But again think largely about channel footprint as well as category and product footprint, so that includes, of course, all of our branded supply systems but also preferred product, our own source products and our own private label products, and that combination we think is formidable and creates a lot of value downstream for our customers.
Operator: There are no further questions. So, this will conclude today's question-and-answer session. I would now like to turn the call back over to Mr. George Barrett, Chairman and Chief Executive Officer, for closing remarks.
George S. Barrett - Chairman and CEO: Great. Thanks and thanks for all the questions, folks. I would like to end the call by just saying we are encouraged by our performance and our rate of progress. And while our first half was certainly boosted by some external factors, the underlying business is moving in the right direction. There is a lot of work to do and we intend to get it done. So, thanks to all of you for taking the time to listen in.
Operator: Ladies and gentlemen, we thank you for your participation in today's conference. This concludes the presentation and you may now disconnect. Have a wonderful day.